FTX stuff

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Of course there will be several FTX movies, and maybe the most cinematic scene in the whole story is the meeting that Caroline Ellison, the chief executive officer of Alameda Research, FTX’s affiliated trading firm, held to tell her employees that they’d been stealing FTX customer money. Imagine! Imagine coming into the company all-hands meeting at the lucrative trading firm you work at, in the Bahamas, far away from your friends and family and competitors, in a slightly cult-like environment where your every need is catered to out of the firm’s enormous profits. And then your 28-year-old boss is like “so guys, a little bad news, actually we’re a Ponzi? Sorry if I didn’t mention that earlier.” Everyone quit immediately, but much too late. 

That meeting happened on Nov. 9, the day after FTX death-spiraled and tried to sell itself to Binance, and has been reported before. But now Ellison is cooperating with prosecutors and regulators, so we have their version of her version of the meeting and, oof. Here is how the US Commodity Futures Trading Commission describes it:

On the morning of November 9 at approximately 10 AM ET, after the announcement of the then-contemplated Binance acquisition, Ellison held an “all-hands” meeting with Alameda staff. In that meeting, Ellison acknowledged that earlier that year, she, Bankman-Fried and other individuals had decided to use FTX customer assets to pay Alameda’s debts, and that Wang and another FTX executive were aware of this. Specifically, in that meeting, Ellison stated that, “starting last year” Alameda was “borrowing a bunch of money by open term loans” and used those assets to “make very illiquid investments.” Ellison further explained that following the widespread decline of digital asset prices most of Alameda’s loans had been recalled and, in order to meet those recalls, Alameda borrowed “a bunch of funds” from FTX, which in turn “led to FTX having a shortfall in user funds.” Ellison informed Alameda staff that FTX had “always allowed” Alameda to borrow customer assets, and did not require collateral for those loans. She also explained that Alameda could access user assets without requiring FTX’s approval as the “structure” allowed Alameda to “go negative in coins.” In response to an employee question, Ellison also acknowledged that her November 6 tweet to the Binance CEO offering to buy his FTT holdings at $22 per token was “kind of a misleading thing to tweet” and expressed remorse. Shortly after this meeting, most of Alameda’s staff resigned.

“Go negative in coins” is an incredible euphemism, really. The idea is that Alameda could deposit, say, 1,000 Bitcoin at FTX, and then it would have a balance of 1,000 Bitcoin. And then it could withdraw, say, 3,000 Bitcoin from FTX, and then it would have a balance of -2,000 Bitcoin. If you have a negative balance at your bank, bad things happen. When Alameda had a negative balance at FTX, that was just fine. Until it wasn’t.

Ellison and Gary Wang, the former chief technology officer of FTX, have agreed to plead guilty to federal fraud charges for their role in the FTX implosion. (The plea agreements say that Ellison and Wang face maximum sentences of 110 and 50 years in prison, respectively, though presumably they will end up with substantial discounts for cooperating.) Last night, Sam Bankman-Fried, the founder of FTX and Alameda, landed in New York to face similar charges. There is something of a prisoner’s-dilemma situation here, in that there was in theory the possibility that everyone at FTX and Alameda could have stuck together and said “what, we never did anything wrong,” and that they might have persuaded a jury of that. The odds were always low, but it is the approach that Bankman-Fried has taken in public interviews. Bloomberg’s Zeke Faux reported earlier this month:

Part of FTX’s appeal was that it was mostly a derivatives exchange, which allowed customers to trade “on margin,” meaning with borrowed money. That’s a key to his defense. Bankman-Fried argues no one should be surprised that big traders on FTX, including Alameda, were borrowing from the exchange, and that his fund’s position just somehow got out of hand. “Everyone was borrowing and lending,” he says. “That’s been its calling card.” But FTX’s normal margin system, crypto traders tell me, would never have permitted anyone to accumulate a debt that looked like Alameda’s. When I ask if Alameda had to follow the same margin rules as other traders, he admits the fund did not. “There was more leeway,” he says. …

Ellison said that she, Bankman-Fried and his two top lieutenants—Gary Wang and Nishad Singh—had discussed the shortfall. Instead of admitting Alameda’s failure, they decided to use FTX customer funds to cover it, according to the people. If that’s true, all four executives would’ve knowingly committed fraud. …

“So, it’s not how I remember what happened,” Bankman-Fried says. But he surprises me by acknowledging that there had been a meeting, post-Luna crash, where they debated what to do about Alameda’s debts. The way he tells it, he was packing for a trip to DC and “only kibitzing on parts of the discussion.” It didn’t seem like a crisis, he says. It was a matter of extending a bit more credit to a fund that already traded on margin and still had a pile of collateral worth way more than enough to cover the loan.

This is a story in which FTX was operating its legitimate business — extending margin leverage to traders on its exchange — and made some mistakes. The mistakes were very bad — they involved giving billions of dollars to Alameda, which it could not pay back, blowing up FTX and taking customer money with it — and also very suspicious, in that FTX gave this generous credit only to its own affiliated trading firm, secured largely by tokens that FTX had invented, and Alameda was lending a lot of that money to FTX/Alameda’s principals for their own personal purposes. And even if this story was true, it is not much of a defense to fraud charges, because FTX was going around telling everyone that it had good automated risk systems that would prevent it from doing exactly this sort of dumb thing, and lying about that is itself fraud. Again, I don’t think this would have worked. But I suppose if you got a bunch of smart earnest 20-somethings up on the witness stand and they all said “yes we were extending credit to a margin customer, ordinary-course stuff, but then the market blew up and the loans defaulted,” there was a chance

Anyway, I’m happy to see most FTX generals are facing criminal charges and will stay behind bars for a very long time.